cash underpinning agreement: synopsis
A note of the main terms of a cash underpinning arrangement (also known as a cash underwritten alternative) applying on a takeover bid.
A cash underpinning arrangement (also known as a cash underwritten alternative) will be required where the bidder wishes to offer target shareholders cash, or a mixture of cash and bidder securities, and wishes to issue shares as consideration.
The cash underpinning agreement is entered into between the bidder and the underwriter, who will usually be the bidder's financial adviser. Under the agreement, the underwriter commits itself to make an offer to make a payment of a fixed cash amount in respect of those bidder consideration shares to which target shareholders would otherwise become entitled under the offer, where those target shareholders have chosen to take cash instead. A cash underpinning therefore enables a bidder to offer a share and cash consideration but to finance the cash through an issue of shares. For target shareholders the advantage is that the cash available is generally unlimited, unlike in the case of a mix and match offer.
It is important to remember that the cash underpinning agreement is between the bidder and the underwriter. Therefore, the terms of the agreement will not form part of the contract between the underwriter and the target shareholders (unless specifically incorporated, which is almost invariably never the case). This contract is constituted by the target shareholders' acceptance of the underwriter's offer. Thus, any conditions to the provision of the cash alternative will be ineffective as against target shareholders unless included in the offer document as a condition to the cash alternative.
The underwriter will usually lay off his underwriting risk onto sub-underwriters, by entering into a series of sub-underwriting letters, under which sub-underwriters each agree to take a proportion of the shares which would otherwise be taken by the underwriter. These letters will usually be between the broker, as agent for the underwriter, and the sub-underwriters. The terms and conditions will mirror those in the cash underpinning agreement so that the underwriting and sub-underwriting will stand or fall together.
The cash underpinning agreement will be required to be made available to shareholders as a document on display while the offer is open for acceptance.
The key provisions of a cash underpinning agreement are as follows:
Terms of the offer. The underwriter will of course want some control over the terms of the offer. The agreement will therefore provide that the offer be on the terms set out in the press announcement in the form annexed to the cash underpinning agreement. There will also be restrictions on any variation of the offer without the underwriter's consent and, sometimes, a requirement for the underwriter's consent to any extension of the closing date(s), waiver of conditions or other decisions relating to the offer.
Revision of the offer. A disadvantage of a cash underpinning arrangement is that it is normally impossible to revise an offer without re-underwriting again and thereby incurring all the usual associated costs. However, it is normal to provide in sub-underwriting letters that revision of the offer solely to become a mandatory offer under Rule 9 of the City Code on Takeovers and Mergers (the Code) (without any other change in terms) is a permissible variation, although the underwriter's (but not sub-underwriters') consent is often required.
Under the agreement, the offeror will agree to do various things in connection with the offer:
• To procure release of the press announcement.
• To post the offer document (subject to approval by the underwriter).
• To use best endeavours to obtain formal approval by the United Kingdom Listing Authority of any listing particulars and to obtain admission of the consideration shares to the Official List.
• To register and make available any listing particulars (in accordance with its obligations under the Financial Services and Markets Act 2000 (Official Listings of Securities) Regulations 2001 (SI 2001/2956) and paragraph 8.4R of the Listing Rules).
• To produce supplementary listing particulars if appropriate.
The obligation to underwrite the issue will generally be made conditional upon the release of the press announcement and therefore the launch of the bid.
The cash alternative will (in the press announcement and offer document) be expressed to be conditional upon the offer becoming unconditional in all respects (which will itself include a condition relating to listing of the consideration shares).
The underwriting agreement does not form part of the contract between the underwriter and the accepting target shareholders. If further conditions are required, it is necessary to make them conditions of the cash alternative in the press announcement and the offer document. For this reason, further conditions (such as warranties remaining true and accurate when repeated) are not common.
This is the operative clause: the underwriter undertakes to make the cash alternative available by making a separate offer to make a cash payment (in respect of up to a specified number of new bidder consideration shares) to target shareholders who have accepted the offer and have validly elected for the cash alternative.
The agreement will contain provisions relating to extension of the cash alternative in the event that the offer is extended. The general rule is that once an offer (including any cash alternative) has become unconditional as to acceptance it must remain open for not less than 14 days after the date on which it would otherwise have expired (Rule 31.4, the Code). However, where the value of the cash underwritten alternative is, at the time of announcement, more than half the maximum value of the offer, a bidder is not obliged to keep the alternative open provided it has given shareholders at least 14 days written notice that it reserves the right to close the offer on a stated date (or to extend it) (Rule 33.2, the Code). This provision is usually relied on to close the cash alternative when the offer becomes unconditional as to acceptances.
The agreement will contain clauses dealing with the procedure and deadlines for notification by bidder to underwriter of the level of take-up of the cash alternative and payment by the underwriter to accepting target shareholders.
The underwriter will generally seek warranties from the bidder relating to:
• The accuracy of statements contained in, and there not being any material omissions from, the press announcement.
• The accuracy and fair presentation of the last accounts and, where relevant, interim results.
• Absence of material change since the last accounts date.
• Disclosure of all material contracts.
• Disclosure of all litigation.
• Compliance with law and applicable regulations and the bidder's constitution in relation to the offer.
• No acceleration of indebtedness/defaults under debt facility agreements.
• Sufficiency of working capital.
• Reasonableness of any profit forecast.
Breach of warranty. It should be noted that an underwriter will only have a right to terminate its obligations to target shareholders to make cash available (for example, for breach of warranty) if it has reserved the right to do so in the press announcement and offer document (which is highly unusual). Its remedy for breach will therefore be limited to damages if it can show a loss as a result of the breach.
The agreement may make clear that the cash alternative will not be available if the Companies Act 2006 compulsory acquisition procedure is invoked. So the bidder must provide any cash necessary to meet the consideration due to minority shareholders out of its own resources.
The agreement will contain provisions relating to payment of underwriting commissions and costs and expenses by the bidder.
It is usual for the agreement to contain an indemnity from the bidder in favour of the underwriter and its employees

Practical Law Dictionary. Glossary of UK, US and international legal terms. . 2010.

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